Avoid the 5 biggest mistakes people make when buying a franchise
It’s a big deal buying any business, especially a franchise. The documents can be overwhelming, with hidden costs and traps, so it’s crucial that you understand everything you are being required to sign and the implications of becoming a franchisee.
We help people buy and sell franchised businesses all the time (as well as helping people to franchise their businesses) so we know what to look out for and also what to avoid.
Here are some of the biggest mistakes we see people make time and time again when buying a franchise and our top tips to help you avoid them …
Mistake #1: They don’t set themselves up properly
Many people buy a franchise and get themselves an ABN, when what they should be doing as well as this, is setting up a separate legal entity to own and operate the business.
Chances are, there will be benefits gained from structuring your business as a company so that you can protect your personal property. As a sole trader, you are personally liable for all business debts. However, having a company structure turns your business into a separate legal entity, meaning the company can sue and be sued. This helps limit your personal liability.
Don’t forget that, as well as being liable to the franchisor, you may also be liable to your staff, clients, landlord and suppliers etc. You do not want to carry all this risk and liability personally.
Mistake #2: They don’t ask the right questions
You need to ask the franchisor the right questions before you even get to the legal document stage. Don’t rush this stage, even if you are getting pushed, take time to ask key questions like:
- How many hours will I personally be required to work in the business?
- What training and support do I get from the franchisor?
- What is the minimum performance criteria and what are the consequences of not meeting them?
- What other costs are involved (e.g., software licences, marketing fees, transfer fees and renewal fees)?
- What happens if I want to sell the business?
Often, we find that when we report to a franchisee on the documents, this is the first time they have considered any of these important things that should have already been discussed.
Mistake #3: They don’t engage experienced franchise experts
Seek professional advice from an independent accountant and lawyer, with experience in franchising, to help you spot red flags and assess the viability of the business.
It is particularly important to engage a commercial lawyer, who understands Australian franchise laws and regularly reviews franchise documents, to properly advise you on the acquisition of the franchised business. This is a specialist area of law and needs someone who knows what is important to report to you on in the documents and how to explain the process and the risks, so you fully understand them.
Of the enquiries we get from franchisees who want to terminate their franchise agreement, at least 9/10 did not engage a specialist franchise lawyer to advise them on the documents before they signed. They really had no idea what they were getting into!
Mistake #4: They don’t do enough due diligence
Your solicitor should carry out searches on the franchisor and its intellectual property, but you have a role to play in researching and investigating the franchise also. The best way to get to know the franchise business is to thoroughly research the franchise system and study the disclosure document, the franchise agreement and any other documents provided by the franchisor, before you buy.
You should make sure that the franchisor is genuinely interested in helping their franchisees succeed and one of the most import things you can do is to talk to current and former franchisees to understand what they find rewarding and challenging about the business. Their details will be provided to you by the franchisor in the disclosure document. In particular, try and speak to any franchisees who are listed as having terminated their franchise, for obvious reasons!
It seems simple, but Google it and see what has been in the news over the last few years and also hang around outside the business you are buying (if buying existing) or another similar business to see what customer traffic is really like.
Mistake #5: They don’t fully understand the documents or what it is to be a franchisee
As a franchisee, your franchise agreement will undoubtedly limit the decisions that you can make about your business. It’s not your business to do as you please, you have to follow the rules and the system.
Despite the risks, many franchisees don’t allocate enough time and money at the outset to fully understand the documents. It is not until later that they start to question what happens at the end of their franchise agreement.
Consider, for example:
- Will you be able to renew the agreement if you want to?
- What rules apply if you want to sell the business before the end of the term?
And, perhaps most importantly:
- Are there any restrictions on you working in or starting a similar business after you leave the franchise system? This could stop you being able to earn an income, so it’s crucial that you obtain legal advice on the restraint of trade clauses.
They also don’t check that the documents contain all the agreed terms that were discussed (e.g. price and any income guarantees).
Take your time and make sure you:
- Structure your business properly from the start;
- Do thorough due diligence;
- Go in with your eyes wide open, having asked the right questions;
- Really understand the documents you are signing; and
- Get your support team right by hiring lawyers and accounts who understand franchising, then you will set yourself up from success from the start.
If all else, trust your gut instincts, if you can’t negotiate a better deal, look for a different franchise or reconsider if franchising is even right for you.
For assistance, get in touch today.